February 21, 2024

Does this mean that an investor should never book profits?

Nifty is hovering at all-time high levels and a common question that investors may have is whether to book profit at current levels or remain invested.

FinSharpe conducted a long term backtest on the Nifty 50 from January 5, 2010, to January 1, 2024. Analysis was done on two scenarios: Buy & Hold vs Profit Booking

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Scenario 1: Buy & Hold

In this case the investor simply bought Nifty 50 and did nothing.

Rs 1 lakh invested became Rs 4.11 lakh.

Scenario 2 : Profit Booking

Book profit when the portfolio hits a 30 percent profit and re-invest the amount within two months.

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In this case the investor continuously monitored the portfolio. Every time the profit crossed 30 percent the profit was moved to cash and it was re-invested within a period of two months from the date of profit booking.

Rs 1 lakh invested became Rs 3.88 lakh

This includes transaction costs of 0.25 percent.

Profit Booking (1)

Why does this happen? 

The portfolio is likely to hit a 30 percent profit in a bull market. This target was achieved in these years: 2014, 2017,2020,2021,2023.

All these years were bullish years before which market was sideways to bearish for a prolonged period for most cases.

If you time the market to book profit it is likely that you may underestimate the magnitude of the rally and miss out on the outlier years.

Take for example the year 2023 in which the broader market performance was significantly high.

In 2023 Nifty Midcap 100 Index gave a return of 46.57 percent.

If you book profit it is psychologically difficult to re-invest the profit. This means that the portfolio would grow with a smaller base or you would likely re-invest at higher levels.

Does this mean that an investor should never book profits?

Absolutely not.

When To Book Profits

These are the possible scenarios in which an investor could book profits :

1. Goal based target achieved

It is important to set clear goals before investing. Depending on your WHY you may have set target goals like   higher education, early retirement, buying a house etc.

If this goal is achieved then yes, it is time to book profit as the market is at an all time high level. It is important to not get greedy and try to seek a higher target just because of the market situation.

If this goal is not achieved and you still have time then it is futile to time the market and re-enter at a lower price as it is difficult to consistently do so over a longer period.

If you are near your investment goal, partial profit booking and re-investing in a fixed income security also could be a good strategy to lower your portfolio risk.

2. Maintain Asset Allocation

If you have invested in various asset classes like Equity, Gold and Debt, according to your risk profile it may have been recommended that you stick to an asset class allocation of 50 percent Equity, 30 percent Debt and 20 percent Gold.

Currently, since Equity markets are at an all-time high, the likely weightage of Equity in your portfolio might have increased. This could be a good time to rebalance your portfolio to ensure that the Asset Class weightage is maintained, otherwise your portfolio will be subjected to a higher than anticipated risk.

During such times it is best to consult with a SEBI Registered Investment Advisor who would suggest the right course of action. This will reduce any errors that an investor may make due to fear or greed.

Rohan Borawake is Co-Founder & CEO, Sabir Jana is Co-Founder and Head of Quantitative Research, at FinSharpe Investment Advisors. Views are personal, and do not represent the stand of this publication.